VentureBeat

Qihoo, a fast-growing but controversial Chinese search engine for Web 2.0 content, has raised $25 million more in a second round of venture capital from credible U.S investors.

This is significant because Qihoo has launched a new kind of search engine, dedicated to Web 2.0 content — focused on blogs and forums, for example — that has seen its traffic spike in China. Page views have grown from tens of millions of page views a day, to a hundred million page views by the end of this year, the company says. If true, after a mere year’s operation, Qihoo is about a third the size of Chinese industry leader Baidu. The funding brings Qihoo’s total to a whopping $45 million, a significant amount of capital for a Chinese company.

This is a victory for Qihoo’s chief executive and founder, Hongyi Zhou (pictured left), who has come under fierce personal attack from Jack Ma (pictured below), chief executive of rival, Alibaba. We reported on the controversy here, and many people told us Zhou’s fight with the Ma would tarnish his reputation — because of Ma’s clout. Alibaba operates its own search property, Yahoo China, which has sued Qihoo, and has been readying a suit against Zhou directly.

However, U.S. venture capital firm Highland Capital Partners has braced itself and taken the lead to invest in the company. Also investing are Redpoint Ventures and existing investors Sequoia Capital China, CDH, Matrix Partners and IDG Ventures. Sequoia and Matrix have historically been among the best performing venture capital firms. As reported, Alibaba and Yahoo exerted pressure on investors, including Sequoia, to avoid backing Qihoo. VentureBeat reported that Yahoo’s co-founder Jerry Yang and Sequoia’s Michael Moritz were even forced to a meeting over the dispute.

VentureBeat just spoke with Dan Nova (below) of Highland, who will be joining Qihoo’s board. Nova is experienced in search, having co-founded Lycos and invested in Ask Jeeves. His firm has traveled frequently to China and met with more than a hundred companies there, Nova said.

He said ironically, the media attention generated by the Ma-Zhou fight has not hurt Qihoo, rather helped it.

“This is a classic David versus Goliath story,” he said. “The more press we continue to get, the more traffic we get — the traffic is through the roof.”

He hopes the legal disputes can be resolved, he said. “They didn’t serve the purpose they’d intended, which was to make investors nervous about investing in Qihoo,” he said of Alibaba’s legal moves and other threats.

Nova said he is not concerned about potential lawsuits. Zhou is not a liability, he said, noting that Zhou has demonstrated his prowess and integrity by founding search company 3721 (later bought by Yahoo), and by the fact that his backers at 3721 (IDG, for example) are backing him again at Qihoo. “He’s a rock-star among Chinese entrepreneurs,” Nova said.

He said Qihoo is pioneering a new kind of search, focused on unstructured, user-generated content of the type found on blogs and Chinese online bulletin boards, which is more dynamic, and something Google’s Blog Search has been patchy at, he said. He said Qihoo’s architecture is its secret sauce, but that it takes the best of Digg, Google and Technorati and rolls them up into one. He said Qihoo is not trying to duplicate Google’s main engine search, but that the Chinese users are interested in lighter subjects, such as lifestyle and entertainment — a strength of Qihoo, he said. (Politics is avoided for obvious reasons).

Zhou Hongyi, chairman of Chinese search engine start-up Qihoo, defended himself Sunday against allegations that he may have embezzled from or defrauded Yahoo China before leaving that company last year.

In a phone interview, Zhou (pictured here) responded to VentureBeat’s article on Friday that reported Yahoo China is about to file a lawsuit against him. That article was based on an interview with a source close to Yahoo China familiar with the suit preparations.

Zhou dismissed news about the suit, saying it was yet another behind-the-scenes effort by Jack Ma, the chief executive of Yahoo China’s parent company Alibaba, to tarnish Zhou’s reputation. Ma’s motivation, Zhou said, is to make Zhou a scapegoat for Ma’s own failures. Ma has made several missteps since taking over Yahoo China last year, Zhou said, which have resulted in declining market share.

The skirmish is significant because the stakes are high in China’s fast growing Internet economy. The red-hot search engine market is still wide open, by most accounts, even if Baidu enjoys a significant lead — because millions of new Chinese are coming online each year.

Jack Ma is one of the most respected figures in China, because he embodies the successful Chinese entrepreneur — able to hold his own against US competitors such as eBay. He is revered in China like Bill Gates and Steve Jobs are here in the U.S. Some say pissing him off is like committing political suicide.

Zhou formed Qihoo, a competitor to Yahoo China, last year after he was ousted from Yahoo China by Ma (pictured left). The ouster came after Yahoo paid $1 billion to Alibaba to take over its China operations last year. Yahoo, in turn, negotiated a 40 percent stake in Alibaba.

Since leaving, Zhou has hired about 100 employees from Yahoo China.

VentureBeat’s article on Friday outlined the legal complaint being prepared by Yahoo China and Alibaba. The complaint will allege Zhou fostered a poor business culture while at Yahoo China, and that he became defensive as pressure mounted from U.S headquarters, according to the source. It says he built a moat around his China operations and started cutting his own deals on the side • taking kickbacks and making strategic investments for his own good - in preparation for his exit. It says he paid Yahoo China employees to leave the company.

Zhou said that Ma has no proof of any of these allegations. He said Ma is resorting to a desperate media campaign, knowing the charges won’t hold in court. “They’re all lies,” said Zhou, adding he wasn’t surprise to hear about them because Ma had spread other allegations about him for some time. A spokesman for Alibaba declined comment on Zhou’s comments.

Ma has come under increasing pressure from Yahoo, Zhou said, because of flip-flop decision-making. As Zhou explains it, in August 2005, Ma declared a new single focus on search. For example, Ma said Yahoo China would stop operating Yisou, a separate search engine Zhou had built up within Yahoo China’s portal offerings. Ma also said he’d discontinue the brand of 3721, which was the search engine Zhou had built years earlier (Yahoo bought 3721 in 2003.). Ma further said he’d change Yahoo china’s homepage (Yahoo.com.cn) from a portal into a simple search page; he eliminated Yahoo China’s portal staff. He also cut Yahoo’s wireless division, even though it was bringing in sizeable revenue and had cut deals with Chinese providers like China Mobile, Zhou said. (Chinese report on all this is here).

But then in Sept of this year, Yahoo resumed its homepage strategy, and began promoting a separate search engine page, Zhou said. “Now he [Ma] has completely flipped back and wants to rebuild Yahoo China into a portal. As a result, there’s no search strategy,” Zhou said. “He continues to lose market share. There’s brand ambiguity. No one’s sure whether its a search engine or a portal.”

Alibaba has already filed suit against Qihoo in a separate case, claiming Qihoo has inappropriately been labeling Yahoo china’s toolbar as malware and prompts deinstallation • and has hurt Yahoo china’s market share.

Zhou, meanwhile, has sent VentureBeat several documents, translating Chines media and other third-party research reports that say Yahoo China’s toolbar is spyware and deletes applications that try to remove it.

Yahoo China has lost more than 150 employees since Alibaba took over last year, Zhou said. They went to several companies beside Qihoo, including Google, Zhou said. He said such a significant exodus shows the problem is at Yahoo, and the defections to Qihoo testify to Zhou’s credibility and integrity. Many of them have worked with Zhou for years, he said.

Yahoo’s $1 billion investment is the largest in China’s Internet industry, Zhou notes. This had meant “a tremendous amount of pressure placed on Jack Ma’s shoulders to prove he’s doing the right thing,” Zhou said. “He needs to find a scapegoat.” Zhou said he had “huge respect” for Yahoo’s co-founder Jerry Yang, who has helped oversee Yahoo’s China strategy. However, “Jerry backed the wrong person, Jack ma. Willingly or unwillingly, Jerry is being held hostage, he’s being used as a tool.”

Zhou said Yahoo China had even resorted to taking an anonymous report critical of Qihoo from a Chinese online forum, translated it into English, and sent it to Yahoo’s Yang. Yang, in turn, forwarded it on to Michale Moritz, a venture capitalist who is backing Qihoo. These efforts are designed to persuade Moritz and other investors to forsake backing Qihoo, Zhou said. “Ma has truly become irrational abuot this campaign.”

Zhou said Qihoo’s reference to Yahoo China’s toolbar as a malware is justified by third-party reports • such one performed by Russian company Kaspersky — consistently listing Yahoo’s toolbar at the top of the list of about 200 popular malwares. “It’s in the top three, Zhou said. Qihoo is not unfairly targeting Yahoo, he said.

Zhou disputed allegations that he waged an anonymous public relations campaign in an effort to hurt Yahoo China’s contracts with companies like MSN. On the contrary, he helped Yahoo China renew contracts with companies before he left, he says. The contracts were terminated a year later because Yahoo China’s good-will has run out, and because MSN was launching its own search efforts, Zhou said.

Zhou rejected claims he’d taken kickbacks or used Yahoo resources to enrich himself or create a competitor to Yahoo China. He’d helped form partnerships with more than 20,000 Web sites while running Yahoo China, he said. Qihoo was one of those. Only after his exit did he become chairman of that company, he said.

(VentureBeat also spoke with Fan Zhang, a partner at Sequoia’s China operations. Zhang said he was puzzled by Alibaba’s use of the anonymous online forum posting, and was dismayed that Alibaba was also spreading untrue rumors about Sequoia • i.e, that it unfairly coerces entrepreneurs to work for its companies.)

Finally, Zhou said that Jack Ma has used a similar personal strategy against eBay’s Meg Whitman. He cited reports that show Ma has tried to shake the confidence of eBay employees in China. (See reports here and here for example, where Ma is declaring victory, and where rumors are circulating about eBay’s departure, even though Whitman says she’s committed to China). “He spread false rumors about Meg Whitman,” Zhou said. “It’s his strategy. He thinks, if he does this to someone long enough, they’ll self-destruct.”